Economy Lab

Inflation hawks may get their wings clipped

The Globe and Mail

The U.S. kicks off global readings on inflation on Tuesday. In the world's largest economy, inflation is essentially flat or headed lower, and deflation still appears the bigger risk as the economy stumbles. (Matt Rourke/Associated Press)

Anyone wondering if inflation fears remain deeply imbedded in the German psyche need only glance at a front-page scare story Friday in Bild-Zeitung. “Inflation Alarm!” the popular tabloid blared in big letters. “How quickly will our money be eaten away?” To underscore the fear factor, the newspaper ran a photo of a billion-mark note, three of which would have purchased a loaf of bread in 1923, the year it was issued.

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On the same day, Bundesbank chief Jens Weidmann told another newspaper that German citizens can count on the central bank to maintain its hawkish vigilance on inflation and dismissed out of hand the suggestion that Germany might be willing to tolerate somewhat higher wages and prices.

The rekindling of old German hyperinflation nightmares stems from a growing belief that the European Central Bank and the German government are indeed ready to inject some small amount of inflation into the economy – perhaps up to 3 per cent – as part of a seemingly futile effort to rebalance the badly misaligned euro-zone economies. Nothing Germany can do domestically will help the moribund Greek economy become more competitive.

Still, Finance Minister Wolfgang Schauble had earlier mused about the need for higher German wages to boost domestic consumption. And Bundesbank officials have been saying privately that Germany will probably have to live with domestic inflation above the bank’s 2 per cent target for some time. This, in turn, has caused analysts to speculate that the European Central Bank is likely to turn more dovish as a result. The current estimated annual German inflation level: 2.1 per cent in April, compared with the euro-area average of 2.6 per cent, down slightly from 2.7 per cent in March. We’ll get a clearer picture when the data crunchers issue their latest report on Wednesday.

We may also get a better sense this week of whether the inflation hawks are right to worry on several other fronts, as Britain, the United States and Canada all release their latest CPI numbers.

First up Tuesday was the U.S., where prices in April were largely unchanged. A fall in the price of gasoline was checked by gains in the cost of food, clothing and housing. The numbers will largely support the Fed's position of keeping interest rates at rock-bottom levels. Bearish analysts are convinced that ongoing heavy pump-priming will eventually translate into serious price pressures. For now, though, deflation still appears the bigger risk as the economy stumbles.

The British quarterly report on Wednesday is expected to show inflation slowing, though not as quickly as the Bank of England would have liked and had previously forecast. The central bank expected sharply lower numbers in the first quarter, in line with the faltering economy. But inflation held stubbornly between 3.4 and 3.6 per cent. If that trend continues, the bank will almost certainly shelve any thoughts of further easing to get the economy out of the doldrums.

“Inflation might remain above 3 per cent throughout the second quarter of this year, and possibly into the second half of the year,” Bank of England deputy governor Paul Tucker warned last month, noting that increases in consumer prices were “uncomfortably above target.”

In Canada, inflation remains tame. When the April CPI is released Friday, most observers expect it will be at or near the March level of 1.9 per cent. Falling fuel prices could lower that number even more by mid-year. Core inflation, minus volatile energy and food prices, is expected to dip slightly in the latest month.